Swan has reprised election promises, though doesn't go much beyond that

15 May 2008 — 12:00am

JPMorgan chief economist Stephen Walters writes:

TREASURER Wayne Swan's maiden budget delivered what was expected, including a mammoth budget surplus which, thanks to the mining boom and the boost to company tax receipts, is the biggest for nearly a decade (as a share of GDP).

The budget delivered generous personal income tax cuts, changes to middle-class welfare arrangements, and new spending on health, education, and infrastructure. Also, the Government announced cuts to spending in portfolios that had gotten bloated under the Coalition government.

The clear winners are lower-income earners and Labor's ubiquitous "working families"  they received generous personal income tax relief, beneficial changes to Medicare arrangements, measures to improve housing affordability, and increased spending on public education and health.

Higher-income earners are the clear losers: they lose much of their present welfare payments via new means tests, the income tax cuts the previous government promised them have been deferred, and they will have to pay more for their "luxury" cars.

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This budget was the first by a Labor government in 13 years. When a Labor treasurer last delivered a federal Budget, Carlton won the AFL premiership (yes, it's been that long), Mark Taylor was captain of Australia's cricket team, Ben Crenshaw won the Masters, and Pete Sampras beat Boris Becker in the final at Wimbledon.

The major surprises were the infrastructure funds (which don't come into effect until July 1, 2009) and the removal of the exemption of condensate from the crude oil excise. Most of the other initiatives in the budget had already been announced as part of the election strategy or leaked well in advance.

Although it may be lacking in glamour, the relatively frugal nature of the budget at a time of high inflation should be well received by financial markets.

While the ALP claims loudly that this budget will ease inflationary pressures, most of the supply-enhancing initiatives involve long implementation lags. In reality, the ALP's biggest contribution is that it is not making inflation worse. Finally, after two years of notable conflict, we have fiscal policy pushing in the same direction as monetary policy.

The 2008-09 underlying cash surplus is the largest budget surplus as a proportion of GDP since 1999-2000 and the second highest in 35 years (1973-74). On a consistent accounting basis, which includes Future Fund earnings, it is the highest budget surplus as a percentage of GDP since 1970-71.

The headline grabbers will likely be the creation of the new infrastructure funds designed to alleviate supply constraints, and the additional 37,500 migrants targeted for 2008-09, who will simultaneously alleviate labour shortages while exacerbating further the undersupply of established homes.

However, for all the angst over predictions of a harsh budget that would set the ALP up as fiscally responsible managers, the net result has been a $2 billion boost to the underlying surplus from direct policy decisions in 2008-09. Although it doesn't sound like much, compared with the average of $12 billion of new spending initiatives handed out over each of the previous two budgets, the relative restraint shown by the new Government is laudable.

THIS budget was much as expected (in terms of the surplus and reduced public-sector demand) and represents only a modest tightening of fiscal policy.

Our calculations point to a structural tightening of the budget of about 0.25% of GDP a year in the next few years.

But certainly it is not a horror budget and not one that will radically crunch the economy or inflation.

The Government has implemented much of its election agenda, with tax cuts very much at centre stage. Other measures, although numerous, are relatively small. These include increased child-care rebates, raising the Medicare levy threshold, additional funds for older Australians and their carers, and increased education spending.

On the other side of the ledger, upper-class welfare has been trimmed (with mean tests for baby bonuses and welfare payments). Interestingly, the largest ongoing savings come from running the public service more efficiently ($2 billion a year) and cutting the previous government's programs ($1 billion a year).

Other areas of focus include: extra money to boost the supply of new housing, a welcome cut to withholding tax as part of a push to enhance Australia's role as a financial centre, and climate and water funding.

Finally, the Government confirmed its intention to conduct a detailed review of tax policy  with the report due late next year.

The big headline catcher is the establishment of an infrastructure fund (about $21 billion), an education fund ($10 billion) and a health fund ($11 billion). These will all be funded from the current and next year's surpluses. Clearly the purpose here is to deal with perceived bottlenecks and inadequacies. While potentially productivity-enhancing, if the money is spent too quickly, it would not be consistent with tighter policy or taking the heat out of inflation.

Overall, this is a budget that implements most of the new Government's agenda rather than a radical tightening of policy. The RBA would see it as "leaning in the desired direction" but not much more.

Commonwealth Bank chief economist Michael Blythe writes:

THE budget ticks all the boxes in terms of the Government's medium-term fiscal strategy. But the underlying political dynamic is also clear. The budget produces a larger surplus than the 1% of GDP projections with which the Coalition was comfortable.

The emphasis has shifted from spending to savings. So, the ALP can now claim the mantle of fiscal conservatism.

Most of the Government's election commitments were delivered. The surplus target of 1.5% of GDP and savings target of $3-$4 billion a year were bettered. A much larger than usual proportion were savings rather than spending measures.

Some savings measures look a little soft: an increased "efficiency dividend", for example, is expected to deliver $1.8 billion over four years and improved tax "compliance" accounts for a further $2 billion. Australia Post will deliver a special dividend of $150 million and a much larger than usual RBA dividend is expected. Growth in real spending, averaging out at 2.3% a year over the next four years, also compares unfavourably with previous efforts at fiscal repair.

The Building Australia Fund is also worth a look when thinking about the economic impact. The details are still sketchy, but it seems that both the capital and earnings of the fund will be drawn down to spend on infrastructure over the next few years. Spending is spending, whether it comes directly from the budget or via a government fund.

As a result, we suspect that budget measures will do more to protect against near-term downside growth risks than wind back near-term upside inflation risks.

Tax cuts are a recurring fiscal theme in Australia. There have been 14 big tax cuts since the late 1970s. But history shows no clear correlation between those cuts (or size of the cut) and any ensuing trend in consumer spending. At times large cuts were followed by slowdowns in spending (1982-83, 1989-90). At other times, relatively small tax cuts were followed by a big acceleration in spending (2003-04).

This lack of correlation suggests that underlying economic trends are more important in determining the influence of tax cuts. If the economy is in good shape and households are "relaxed and comfortable", then it is likely that the money will stimulate spending. If households are uncertain or cautious, the money may end up being saved or used for balance-sheet repair. Tax cuts are likely to impart only a modest stimulus in the current environment.

There has been some progress in reducing effective marginal tax rates for lower income earners over the past few years and this budget continues that trend via income tax adjustments towards the lower end of the range.